Qualified Mortgages: Safe Harbor From What?
On July 10, 2013, the Consumer Financial Protection Bureau (CFPB) issued a final rule1 amending its earlier regulations defining and implementing the ability-to-repay requirements of the Dodd-Frank Act. The July 10 release clarified and amended final regulations that had been issued on Jan. 10, 2013.2 The effective date of the regulations is Jan. 10, 2014.
The CFPB ability-to-repay regulations create a safe harbor for mortgages that meet certain, specified underwriting requirements (so-called "qualified mortgages"). Much has been written describing the underwriting requirements that must be met for a loan to be a "qualified mortgage." Little has been written on the potential liability faced by originators and assignees that make loans that are not qualified mortgages. Such potential liability is the issue explored in this article.
The Dodd-Frank Act imposed on all creditors originating residential mortgage loans a duty to make "a reasonable and good faith determination…the consumer has a reasonable ability to repay the loan…."3 The act provides that a creditor or assignee "may presume" the loan has met the ability-to-repay requirement if it is a "qualified mortgage."4 The CFPB was authorized to determine the nature of that presumption.
The statute imposes certain requirements and prohibitions for qualified mortgages but also provides that a qualified mortgage must comply with "any guidelines or regulations established by the [Consumer Financial Protection] Bureau relating to ratios of total monthly debt to monthly income or alternative measures of ability to pay regular expenses after payment of total monthly debt.…"5 In addition, the CFPB is authorized to prescribe regulations that "revise, add to, or subtract from the criteria that define a qualified mortgage upon a finding that such regulations are necessary or proper to ensure that responsible, affordable mortgage credit remains available to consumers.…"6
The 2013 CFPB regulations contain three major clarifications and requirements. First, the CFPB granted creditors making qualified mortgages a safe harbor7—i.e. they receive the benefit of a conclusive presumption of compliance with the Dodd-Frank Act's ability-to-repay requirements. This is true as long as the loan is not a "higher priced" loan, defined as a loan with an annual percentage rate that exceeds the average prime offer rate for a comparable first mortgage transaction by 1.5 percentage points or more.8 Higher priced qualified mortgages receive a rebuttable presumption of compliance. Second, the regulations impose a maximum 43 percent debt-to-income (DTI) ratio for a loan to be a qualified mortgage.9
Third, the regulations create a temporary category of qualified mortgages (maximum of seven years) for loans that satisfy the underwriting requirements of a loan eligible to be purchased, guaranteed or insured by Fannie Mae or Freddie Mac, the Department of Housing and Urban Development, or the Department of Veterans Affairs.10 The loans need only be eligible for purchase, guarantee or insurance. They need not be actually sold, guaranteed or insured, and they are not subject to the maximum 43 percent DTI ratio.
If creditors fail to comply with the Dodd-Frank Act's ability-to-repay requirements they, and assignees of the loan, are at risk of liability. For creditors and assignees, an important issue is the nature of the potential liability they might face.
The CFPB summarized the potential liability that an originator or assignee may face for violation of the ability-to-repay requirements. It consists of:
…special statutory damages equal to the sum of all finance charges and fees paid by the consumer, unless the creditor demonstrates that the failure to comply is not material; actual damages; statutory damages in an individual action or class action, up to a prescribed threshold; and court costs and attorney fees that would be available for violations of other TILA [Truth in Lending Act] provisions.11
The prescribed threshold for statutory damages in an individual action is "not less than $400 or greater than $4000."12 There is a three-year statute of limitations that applies to individual or class actions for damages for violation of the ability-to-repay requirements.13 The three-year period begins to run on "the date of occurrence of the violation." Thereafter, the potential liability faced by the creditor or assignees changes significantly, as discussed below.
Recoupment or Setoff
The Dodd-Frank Act created a second vehicle for potential liability on the part of creditors or assignees. It provided consumers with a "defense" in a judicial or nonjudicial foreclosure action subject to no time limit. The defense created by the statute is "by recoupment or set-off…."14 The amount of recoupment or set-off after expiration of the otherwise applicable three-year statute of limitations is limited to the finance charges and fees paid by the consumer during the first three years of the loan.15 This is a significant limitation of liability. However, within the three-year statute of limitations, the defense by way of recoupment or set-off would allow a consumer to recoup or set-off the actual damages, special statutory damages, statutory damages up to a prescribed threshold, and court costs and attorney fees.16
In addition to liability in an action brought by a consumer, or defense raised by a consumer in a foreclosure action, there is the potential for civil liability in an administrative action. The Dodd-Frank Act extended the potential civil money penalty provisions of the federal banking laws to violations of "any provision of Federal consumer financial law[s]…."17 Such potential penalties are in an amount: (a) not to exceed $5,000 per day for any violation (first tier penalty); (b) not to exceed $25,000 per day for recklessly engaging in a violation of a federal consumer financial law (second tier penalty); or (c) $1 million per day for any violation that occurs "knowingly" (third tier penalty).18
A loan that is eligible to be purchased, insured or guaranteed by government-sponsored enterprises (GSE) or agencies is a qualified mortgage during a temporary period not to exceed seven years. In recent years, government sponsored enterprises and agencies have forced creditors to repurchase loans they have purchased or indemnify the agency for an insurance claim. The repurchase or indemnification obligation may be triggered, among other reasons, by loan characteristics that make them ineligible for purchase, guarantee or insurance.
On May 6, 2013, the Federal Housing Finance Agency directed Fannie Mae and Freddie Mac to limit mortgage acquisitions beginning Jan. 10, 2014 to loans that meet the requirements for a qualified mortgage, including the temporary qualified mortgage provision for loans eligible to be purchased by Fannie Mae or Freddie Mac.19 In addition Fannie Mae and Freddie Mac will no longer purchase a loan that is subject to the ability-to-repay requirements if the loan is not fully amortizing, has a term longer than 30 years, or includes points and fees in excess of 3 percent of the loan.
The repurchase or indemnification risk is not a new risk introduced by the Dodd-Frank Act and the CFPB's ability-to-repay regulations. What is interesting, however, is the relevance of a demand or agreement to repurchase to a determination that the loan still enjoys qualified mortgage status. This issue was addressed by the CFPB in its July 10, 2013, regulations. The bureau noted that "the mere fact that a demand has been made, or even resolved, between a creditor and GSE or agency is not dispositive with regard to qualification of the loan as a 'qualified mortgage'."20 Rather, any evidence that may be brought to light in the course of a particular demand is relevant in assessing whether the loan was a qualified mortgage at consummation.21